The mayor and one councilmember in Berkeley, Calif., announced this week that they are partnering with the startup Neighborly and the Blockchain Lab at the University of California, Berkeley to attempt the first-ever tokenized municipal bond. They hope to make the process faster, cheaper, more transparent and more accessible to community members.
Basically, they want to sell city debt the same way cities always have — to fund projects that the regular budget can’t or won’t cover — but they want to digitize the process and record it on the blockchain. That means recording it digitally in a public ledger constructed with mathematical proof backing up every transaction. The people behind the initiative want to open the bond to investors using both U.S. dollars and some as-of-yet-unspecified cryptocurrency.
It’s not an initial coin offering, exactly. It will be explicitly labeled as a security, and follow all the regulations that govern municipal bond issuances.
Since it’s just an idea at this point and still needs more support from the city, the details aren’t all clear yet. But Ben Bartlett, the councilmember pushing the project along with Mayor Jesse Arreguin, wants to put the money toward programs to help the homeless.
An early 2017 estimate put the city’s homeless population close to 1,000. Bartlett believes it’s about to get worse.
“That number is going to grow exponentially due to the federal budget and the corporate tax cuts,” said Bartlett, who is running for the state Assembly. “Because corporate tax equity is used to fund affordable housing.”
Kiran Jain, Neighborly’s chief operating officer and the former chief resilience officer for the city of Oakland, said there are a lot of reasons blockchain-based municipal bonds (“munis,” in investor-speak) might be better than the status quo.
One simple reason: The traditional process is slow.
“It’s a paper-based, laborious process, and we’re saying let’s digitize that process and put it on the blockchain,” she said.
Making the process faster might also drive down the cost to the city of issuing a bond.
“The issuance and underwriting process for municipal securities is often done in negotiated deals with very little transparency,” wrote Neighborly Chief Executive Officer Jase Wilson in a 2017 letter to the Financial Industry Regulatory Authority. “Neighborly believes that (blockchain) could be used to involve direct participants in the pricing decisions for municipal bonds, potentially dramatically increasing transparency in issuance. Neighborly believes that a more competitive and transparent underwriting and issuance process can lead to greater transparency and reduced costs in government borrowing.”
A 2017 research paper from UC Berkeley’s Haas Institute found that cities pay issuance costs of about 1.7 percent for their bonds. For a $1 million bond — a pretty small muni bond — that’s an expense of $17,000. And many pay issuance costs higher than that, perhaps more in the 7 to 8 percent range.
All told, the researchers estimated that governments selling municipal bonds probably pay $3 billion to $4 billion per year in issuance costs. They also found that issuance costs, as a percentage of the bond’s value, tended to be higher for smaller bonds.
Bartlett and Jain think a blockchain-based muni bond issuance would also open the door for cities to pursue smaller bonds, and to break those bonds up into smaller chunks so the average person can afford to invest in them.
“The average [muni bond] investment is $5,000,” Jain said. “With a tokenization of a municipal bond we can lower that.”
Although the pilot project is aimed at homelessness in one city, blockchain is a technology Neighborly is looking to for strategic growth, so the company will be looking for more ways to do this in more places in the future.
Bartlett also hopes to use it for other things. After all, if blockchain enables the city to pursue smaller bonds with lower issuance costs, it could make debt a more attractive route for funding projects.
“We can get more trees in a single park, or a single ambulance, and it’s faster,” Bartlett said.
There’s one more reason the councilmember is excited about the idea. If a person were able to buy into a municipal bond issuance for, say, $1,000 instead of $5,000, it would open the door for Berkeley citizens to invest in the issuance rather than just wealthy people and institutional buyers.
“It’s more fun because it involves community,” Bartlett said.